Madan CAhttp://madanca.com
Chartered Accountant Mississauga/Toronto/Oakville, does tax returnsFri, 10 Aug 2018 16:28:29 +0000en-UShourly1https://wordpress.org/?v=4.9.8MadanCahttps://feedburner.google.comNew Tax Rules on Investment Income for Canadian Controlled Private Corporations (2019)http://madanca.com/blog/new-tax-rules-on-investment-income-for-canadian-controlled-private-corporations-2019/
http://madanca.com/blog/new-tax-rules-on-investment-income-for-canadian-controlled-private-corporations-2019/#commentsMon, 09 Jul 2018 21:33:29 +0000http://madanca.com/?post_type=post&p=46843The Liberal Government of Canada recently introduced new tax rules, which come into effect in 2019, for the taxation of investment income earned by Canadian controlled private corporations (CCPCs). If you are a Canadian business owner that invests through your company, then keep reading to learn more. What is passive investment income? Passive investment income … Continue reading New Tax Rules on Investment Income for Canadian Controlled Private Corporations (2019)

The Liberal Government of Canada recently introduced new tax rules, which come into effect in 2019, for the taxation of investment income earned by Canadian controlled private corporations (CCPCs). If you are a Canadian business owner that invests through your company, then keep reading to learn more.

What is passive investment income?

Passive investment income includes dividends, interest, capital gains and royalties. Canadian companies often invest their surplus cash in passive investments, such as real estate, stocks, bonds, and mutual funds, to earn a decent rate of return on their capital. The government of Canada has enacted new rules applicable for 2019 that impact the taxation of this income.

The Old Rules

Canadian controlled private corporations already pay a high rate of tax on investment income, i.e. 50%. Some types of investment income are taxed at a lower rate, such as capital gains, which have a tax rate of 25%. These tax rates have not changed. What has changed is the tax rate applied to corporate business profits generated from day-to-day operations by a CCPC, where the business profits are re-invested in passive investments.

The New Rules

To understand the new rules for Canadian corporate taxation of investment income, let’s look at an example. Pineapple Express Inc. is a CCPC, with a single owner, Sethy Rogan. Pineapple Express Inc. invested $1,000,000 of its savings into a passive investment making interest income of 9% or $90,000 for the 2019 year. In addition, Pineapple Express Inc. also made profits from its main business of $300,000 for the 2019 year.

The tax rate on the passive investment income is 50%, which is the same under the old and new rules. BUT, the tax rate on the business income made has gone up from 13.5% under the old rules, to 21.8% under the new rules. Why is this case?

The reason is the Liberal Government of Canada passed a tax law, effective 2019, that imposes a higher rate of tax on business income of a CCPC, where the corporation is earning more than $50,000 of passive investment income in the year. They are penalizing CCPCs for saving lots of cash and investing that cash in passive investments. Let me explain further.

CCPCs can claim the small business deduction on business profits of up to $500,000, which reduces the tax rate to 13.5% on those profits. However, for every dollar of passive investment income earned by a Canadian private corporation over $50,000, the small business deduction is reduced by $5. Once the passive investment income reaches $150,000, the small business deduction is reduced to $0.

Let’s apply these rules to Pineapple Express Inc. Pineapple Express Inc. earned $90,000 of passive investment income, which is $40,000 over the threshold of $50,000. As a result, the small business deduction limit will be reduced by $200,000. After the reduction the small business deduction limit becomes $100,000 from $300,000.

The business taxes of Pineapple Express Inc. are impacted as follows:

• The first $100,000 of business profit earned by Pineapple Express Inc. will be taxed at 13.5%, which is the same under the old and new rules.

• The next $200,000 of business profit earned by Pineapple Express Inc. will be taxed at 26% under the new rules, compared to 13.5% under the old rules

• When you add up the total taxes paid by Pineapple Express Inc on its business profits of $300,000, the tax rate comes to 21.8% under the new rules compared to 13.5% under the old rules.

]]>http://madanca.com/blog/new-tax-rules-on-investment-income-for-canadian-controlled-private-corporations-2019/feed/4New Income Splitting Rules for Canadian Corporations (2018)http://madanca.com/blog/new-income-splitting-rules-for-canadian-corporations-2018/
http://madanca.com/blog/new-income-splitting-rules-for-canadian-corporations-2018/#commentsTue, 05 Jun 2018 18:07:09 +0000http://madanca.com/?post_type=post&p=46365Do you own a Canadian private corporation and want to pay dividends to your family members? The new income splitting rules introduced by the federal government make it more difficult to do so. Keep reading to find out what you need to know about these new rules. The Old Rules Prior to 2018, a dividend … Continue reading New Income Splitting Rules for Canadian Corporations (2018)

Do you own a Canadian private corporation and want to pay dividends to your family members? The new income splitting rules introduced by the federal government make it more difficult to do so. Keep reading to find out what you need to know about these new rules.

The Old Rules

Prior to 2018, a dividend could be paid without restrictions to family members (18 or older) of the owner of a Canadian private corporation. By splitting the company’s income among several family members, the family could reduce the overall tax it paid to the Canada Revenue Agency.

The New Rules

As of 2018, dividends paid to family members of the owner of a Canadian private corporation will be taxed at the highest marginal tax rate for dividends, which could be as high as 40% in some provinces. As a result, there is no longer a tax benefit from dividend sprinkling.

For example, assume that ABC Inc., a Canadian private corporation, paid $100,000 of dividends to the owner’s adult son, who doesn’t work in the business. The annual dividend is the son’s only source of income.

Under the old rules, the son would only pay $17,000 of income tax on the dividend received. Under the new rules, the son will pay $40,000 of income tax on the dividend received.

As you can see, the new rules on dividend sprinkling have eliminated the tax benefit from paying dividends to family members. However, there are certain exceptions to the new rules.

1. Non-Service Businesses

Businesses that derive more than 90% of their income by selling anything other than services are exempt from the new dividend rules so long as:

a) The family member receiving the dividends is at least 25 years of age and owns at least 10% of the voting shares and value of the family business.

b) The business is not a professional corporation. Professional corporations are corporations owned by doctors, lawyers, accountants and engineers.

What exactly is a non-service business? Examples of non-service businesses include retailers of goods, wholesalers, manufacturing businesses, and import/export businesses.

Let’s look at an example. Al Bundy, a Canadian Resident, is the owner of Ugly Shoes Inc., a Canadian private corporation. Ugly Shoes Inc. sells designer shoes at the local mall. Al’s daughter, Kelly, is 25 years old, and she owns 10% of her father’s company. Ugly Shoes Inc. paid a dividend of $50,000 to Kelly on May 1, 2018.

In this scenario, Kelly is not subject to the new rules, which tax dividends at high rate. This is because she is 25 years of age, she owns at least 10% of her father’s company, and the company is a non-service business. As such, Kelly will pay income tax at regular tax rates on the dividend she received.

2. Family Member Works in the Business

The second exception to the new income splitting rules on dividends has to do with family members working in the family business. A family member can receive dividends from a Canadian private corporation if the following conditions are met:

a) The family member worked in the business for at least 20 hours per week continuously in the current tax year or for at least 20 hours per week for 5 prior years; and

b) The amount of the dividend paid is reasonable based on the work performed.

Let’s look at an example. Bud Bundy, who is Al’s 19-year-old son, works 20 hours per week at Ugly Shoes Inc. as Stock Room Clerk. Bud’s job is to keep the stock room neat and tidy. Stock Room Clerk’s get paid on average $1,200 per month, for part-time work. Bud receives a monthly dividend from Ugly Shoes Inc. for $1,200 per month.

In this scenario, Bud would be exempt from the new dividend rules, since he works at least 20 hours per week in the family business and the dividends paid to him are reasonable.

3. Family Member Invests in the Business

Family members who are at least 25 years of age and who receive reasonable dividends based on the financial investment that they make in the family business are exempt from the new dividend rules. The reasonability of dividends paid is determined by looking at these factors:

• The amount of the financial investment made

• The risk assumed

• The work performed

• Other relevant factors

Let’s look at an example. Kelly Bundy, a Canadian Resident, decides to sell high-end woman’s shoes online. She incorporates a private Canadian company called KB Inc. Kelly’s business needs start-up funds, and so her mom, Peggy, invests $100,000 in Kelly’s company. In exchange for her investment, Peggy receives a 12% dividend each year, amounting to $12,000/year. Before asking her Mom for help, Kelly approached potential private investors who also wanted a 12% return on investment.

In this scenario, Peggy is exempt from the new dividend rules, which impose the highest tax rate on dividends received by a family member. This is because Peggy is at least 25 years old, she made a substantial financial investment, and she is receiving a market rate of return.

]]>http://madanca.com/blog/new-income-splitting-rules-for-canadian-corporations-2018/feed/2Year End Tax Planning Tips for Business Owners (2018)http://madanca.com/blog/year-end-tax-planning-tips-for-business-owners-2018/
http://madanca.com/blog/year-end-tax-planning-tips-for-business-owners-2018/#respondMon, 18 Dec 2017 22:21:39 +0000http://madanca.com/?post_type=post&p=44927Are you ready for 2018? Learn about the three tax planning tips for business owners to take advantage of before the year-end. #1 Declare Bonus Has your company declared a bonus for the end of this year? If not, there’s still time to do so. The bonus doesn’t have to be paid by the end … Continue reading Year End Tax Planning Tips for Business Owners (2018)

Are you ready for 2018? Learn about the three tax planning tips for business owners to take advantage of before the year-end.

#1 Declare Bonus

Has your company declared a bonus for the end of this year? If not, there’s still time to do so.

The bonus doesn’t have to be paid by the end of the current year, but should be recorded as a bonus payable to you as of the year-end. By doing so, your company will be able to reduce its taxable income now by the amount of the bonus, and you don’t have to include anything in your income until the bonus is paid to you. According to the Canada Revenue Agency (CRA), the bonus must be paid within 6 months of the company’s year-end, or else it will be disallowed as a corporate deduction!

#2 Maximize Dividends Paid to Family Members

2017 is the last year that you can pay an unlimited amount of dividends to your family members who are shareholders of your family business. In 2018 and onwards, the government has restricted dividend payments made to family members of the principal owner to a reasonable amount. Reasonableness is assessed by the labour contributions that family members make toward the business.

For example, your company could pay your adult child $100,000 of dividends by the end of 2017, even if he/she did not work in the business at all. Your child would only pay $15,000 of income taxes in respect of the dividend received, assuming they have no other income in the year. This comes to an effective tax rate of only 15%, which is really low for such a large amount. In the 2018 year, this strategy will no longer work. So, take advantage of it while you still can.

#3 Crystallize Accrued Gains & Profits

2017 is the last year for capital gains earned by a Canadian Controlled Private Corporation (CCPC) to be taxed at a lower rate of approximately 25%. Effective January 1, 2018 capital gains in excess of $50,000 will be taxed at approximately 60%. This higher tax rate only applies to gains from the sale of passive investments owned by a CCPC, such as real estate, stocks, bonds, and mutual funds.

For example, assume that Mrs. Jones is the sole shareholder of a Canadian Controlled Private Corporation called Landlord Inc. Landlord Inc. owns a rental property that it purchased for $300,000 many years ago, and it’s now worth $1,000,000. As a result, Landlord Inc. has an accrued gain of $700,000 ($1,000,000 – $300,000).

Landlord Inc. receives an offer from Buyer Inc. for $1,000,000 to sell the rental property, with the closing date scheduled for January 1, 2018. If Landlord Inc. sells the property in the 2018 year, the total tax paid by Mrs. Jones and her company, Landlord Inc. will be $420,000, which is 60% of the gain. Of the $700,000 profit, Mrs. Jones will only be left with $280,000 in her pocket.

In order to avoid paying this high rate of tax, Mrs. Jones does the following:

She incorporates a Canadian company called Tax Savings Inc. in the 2017 year

Landlord Inc. sells the rental property to Tax Savings Inc. for $1,000,000. Since Tax Savings Inc. doesn’t have much cash; Landlord Inc. agrees to accept payment by the end of next year.

Tax Savings Inc. sells the property on January 1, 2018 to Buyer Inc. for $1,000,000, and then repays Landlord Inc. the money it owes.

Landlord Inc. will only pay $175,000 in tax, because it sold its rental property to Tax Savings Inc. in the 2017 year. This results in a tax rate of only 25% on the profit made of $700,000. In addition, Tax Savings Inc. will pay no tax on the sale to Buyer Inc. because Tax Savings Inc. sold the rental property for the same price that it bought it for, $1,000,000.

In conclusion, you can utilize these 3 tax savings strategies to save taxes before the New Year.

]]>http://madanca.com/blog/year-end-tax-planning-tips-for-business-owners-2018/feed/0Webinar: New Changes to Small Business Taxhttp://madanca.com/blog/webinar-new-changes-small-business-tax/
http://madanca.com/blog/webinar-new-changes-small-business-tax/#respondFri, 24 Nov 2017 22:28:24 +0000http://madanca.com/?post_type=post&p=44805This webinar focuses on the proposed new changes to small business taxation by the Liberal Government and how they will impact you. The following subjects are discussed: Income splitting with family members Lifetime capital gains exemption Family trusts Increase in tax on investment income to 77% Tax strategies to deal with the changes You may access the … Continue reading Webinar: New Changes to Small Business Tax

]]>http://madanca.com/blog/webinar-new-changes-small-business-tax/feed/0New Tax Increase on Family Business Transfers in Canada (2018)http://madanca.com/blog/new-tax-increase-family-business-transfers-canada-2018/
http://madanca.com/blog/new-tax-increase-family-business-transfers-canada-2018/#respondMon, 16 Oct 2017 19:59:12 +0000http://madanca.com/?post_type=post&p=44691Planning on transferring your business to a loved one? Find out about the new proposed tax rules by the liberal government that will increase taxes on small business owners who are retiring and transferring their family business to the next generation. Example of Family Business Transfer Let’s start with a simple example of a business … Continue reading New Tax Increase on Family Business Transfers in Canada (2018)

Planning on transferring your business to a loved one? Find out about the new proposed tax rules by the liberal government that will increase taxes on small business owners who are retiring and transferring their family business to the next generation.

Example of Family Business Transfer

Let’s start with a simple example of a business transfer from a dad to his daughter. Dad is the sole shareholder of DadCo, a small Canadian business corporation. He plans to sell all of his shares to his daughter for $500,000. There are two ways that this sale could occur:

In option 1, Dad could directly sell his shares to his daughter for $500,000. Since the daughter does not have a lot of personal cash to pay her Dad, she promises to pay him over time from the cash dividends that she will withdraw from DadCo. Her tax rate is 45%. In this option, she will have withdrawn $909,000 of dividends from Dadco over time, to end up with $500,000 of after-tax cash to repay her Dad. Dad will pay about $125,000 of tax on the sale of his shares ($500,000 x 25% capital gains tax rate). This is very costly.

In Option 2, the daughter plans to use the after-tax corporate cash generated by DadCo’s ongoing profits to repay her Dad over time. By having her company pay her dad directly, she will save about $409,000 in tax. Dad will still pay $125,000 of capital gains tax in this option. The government finds option 2 unfair, because of the huge tax savings, and proposes to eliminate this option.

Option 2 in Detail

Let’s look at the mechanics of option 2 in more detail. There are a total of 5 steps.

Step 1:
The daughter buys the shares from her Dad for $500,000. Her costs basis in the shares of DadCo is $500,000. Dad pays capital gains tax of $125,000 on the share sale.

Step 2:
The daughter creates a holding corporation and transfers her shares of DadCo to her holding company for consideration of $500,000. There is no tax payable in this transfer.

Step 3:
DadCo pays a tax-free dividend to the daughter’s holding company in the amount of $500,000 over time.

Step 4:
The daughter’s holding company uses the $500,000 of cash dividends it received from DadCo to repay the daughter the loan it owes her for $500,000. The daughter does not pay tax on the $500,000 loan repayment she receives. The daughter now has $500,000 tax-free in her personal bank account.

Step 5:
The daughter repays the $500,000 loan that she owes her Dad from Step 1. So far, only dad has paid tax on the sale. She did not.

Overview:

The Canada Revenue Agency or CRA is mad that the daughter paid no personal tax whatsoever, costing the government lost tax revenue. To close this loophole, the CRA will reclassify the $500,000 capital gain on the sale of the shares to a Taxable Dividend to the daughter. As a result, the Dad will not pay tax on the sale, but the daughter will immediately pay tax of $225,000 ($500,000 dividend x 45%). On top of this, the daughter still has to pay her dad back the $500,000 she owes him.

The new rules result in additional tax owing of $100,000 ($225,000 new rules – $125,000 old rules). To add insult to injury, the new rules will not apply if Dad sells his business to a non-family member. This is not fair and impacts inter-generation business transfers.

Stay tuned for my upcoming video on how to deal with the proposed tax changes for small business owners.

]]>http://madanca.com/blog/new-tax-increase-family-business-transfers-canada-2018/feed/0New Tax Rules for Small Businesses in Canada (2018)http://madanca.com/blog/new-tax-rules-for-small-businesses-in-canada-2018/
http://madanca.com/blog/new-tax-rules-for-small-businesses-in-canada-2018/#commentsFri, 08 Sep 2017 21:05:33 +0000http://madanca.com/?post_type=post&p=44621Do you own an incorporated small business? Learn about the new changes made by the government to small business taxation, which you should be aware of and how they can impact you. 1. INCREASE IN DIVIDEND TAX The government will increase the tax on dividends paid to family members that are shareholders of a small … Continue reading New Tax Rules for Small Businesses in Canada (2018)

Do you own an incorporated small business? Learn about the new changes made by the government to small business taxation, which you should be aware of and how they can impact you.

1. INCREASE IN DIVIDEND TAX
The government will increase the tax on dividends paid to family members that are shareholders of a small business corporation, effective January 1, 2018.

For example, assume that Mrs. Nancy Johnson and Mr. Kevin Johnson are shareholders in a medical professional corporation. Nancy is the sole doctor and works in the corporation, while her husband is a non-active shareholder. Every year, the corporation pays Nancy and Kevin a dividend of $100,000 each in respect of their shareholdings.

Under the previous rules, Nancy and Kevin each paid tax at regular tax rates on the dividends they received in the year. Under the new rules, the dividends paid to Kevin are taxed at the highest marginal rate. This is because Kevin does not work in the medical practice, and he has not made any major financial investment in the practice.

As a result of the new rules, Kevin’s personal tax will increase from $14,986 to $45,300 on $100,000 of dividend income.

As you can see, the government does not want you to save tax anymore by paying dividends to family members.

2. FAMILY TRUSTS
With the new rules, the government has stopped the practice of multiplying the lifetime capital gains exemption with multiple family members through the use of a family trust. The new rules are effective January 1, 2018.

Under the old tax regime, beneficiaries of a trust that owned shares of a small business corporation could each claim the lifetime capital gains exemption.

For example, assume that Uncle Bob runs a successful cheese-making factory. Uncle Bob is very generous and has made his spouse, Aunt Bobette, and three children Tiny, Big, and Sloppy beneficiaries of his Family Trust. His Family Trust is the sole owner of Cheesery Inc.

Assume that Uncle Bob receives an offer from the Big Cheese Man Inc. to purchase his company, Cheesery Inc., for $3,200,000. Uncle Bob accepts the offer, and no tax is payable on the sale because each beneficiary of the trust claimed the lifetime capital gains exemption on the sale of the shares.

As you can see from the chart, the lifetime capital gains exemption was allowed for each beneficiary and so no tax was paid on the sale. The government has stopped this tax-planning tool under new rules by preventing beneficiaries of a family trust from claiming the lifetime capital gains exemption. If Uncle Bob had sold his company under the new rules, the total tax paid by all of the beneficiaries in respect of the sale would be $864,000.

3. TAX ON INVESTMENT INCOME
The government is proposing to increase the tax paid by small business corporations on the investment income that it earns, including interest, rents, royalties and dividends.
If the proposals are put into law, then the tax rate on investment income earned by a corporation would increase to effectively 50%, without any tax relief. In addition, when the investment income is distributed by the corporation to its shareholders, the shareholders would pay personal tax on the dividends received at a rate of 54%. The combined corporate tax rate and personal tax rate on investment income distributed is approximately 77%.

Please speak with your local MP to prevent this proposal from being enacted.

]]>http://madanca.com/blog/new-tax-rules-for-small-businesses-in-canada-2018/feed/8How to Purchase a Primary Residence with a Corporation in Canadahttp://madanca.com/blog/how-to-purchase-a-primary-residence-with-a-corporation-in-canada/
http://madanca.com/blog/how-to-purchase-a-primary-residence-with-a-corporation-in-canada/#commentsTue, 08 Aug 2017 21:38:05 +0000http://madanca.com/?post_type=post&p=44543Are you a business owner that would like to purchase a new home with your corporate savings. If yes, read further to learn how. Suppose that you would like to buy your dream home, but your corporation holds all of your savings. If you withdraw all of your savings, you will get hit with a … Continue reading How to Purchase a Primary Residence with a Corporation in Canada

Are you a business owner that would like to purchase a new home with your corporate savings. If yes, read further to learn how.

Suppose that you would like to buy your dream home, but your corporation holds all of your savings. If you withdraw all of your savings, you will get hit with a huge personal tax bill, which you want to avoid at all costs. So, what should you do?

Using this simple strategy, you can utilize your corporate savings to purchase your new home WITHOUT paying any personal tax. Here’s how:

Step 1
Incorporate a Canadian company either federally or provincially; let’s call this company “House Inc.”. You and/or your family members can be shareholders of House Inc.

Step 2
Make a tax-free loan from your existing company to House Inc. For this example, assume that your existing company is named “Money Bags Ltd”.

Step 3
Charge an annual interest rate of 1% on this loan, which is the Canada Revenue Agency’s current prescribed rate of interest. House Inc. must pay the interest to Money Bags Ltd. by December 31 of each year. Prepare a loan agreement or promissory note to document the terms of this loan.

Step 4
House Inc. will use the cash from the loan proceeds it received from Money Bags Ltd. to put toward either the construction of a new home or the purchase of a new home.

Step 5
House Inc. should get a mortgage from a Canadian bank if it doesn’t have all of the cash needed to purchase or build the new home. For example, if the home costs $1,000,000 and House Inc. only has $400,000 of cash available from the loan, then House Inc. will need to get a mortgage of $600,000 from a bank to cover the shortfall.

Step 6
Now that House Inc. purchased the new home, you must begin paying monthly rent to House Inc. House Inc. will pay corporate income tax on the rent received less relevant expenses.

Sometimes, you may have difficulty getting a mortgage for your corporation, in this case “House Inc.”, from a Canadian bank. Canadian banks make it harder for corporations to qualify for a mortgage.

To solve this problem, consider obtaining a mortgage personally and purchasing the new home in your name. Then, prepare an agreement that says that House Inc. is the beneficial owner of the new home, and you are merely holding the new home in trust for House Inc. In addition, a loan agreement should be prepared between you and House Inc. for the mortgage that you personally got from the bank. House Inc. has to pay you back with bi-weekly or monthly payments.

]]>http://madanca.com/blog/how-to-purchase-a-primary-residence-with-a-corporation-in-canada/feed/4Tax Implications of Canadian Investment in a Florida Rental Propertyhttp://madanca.com/blog/tax-implications-of-canadian-investment-in-a-florida-rental-property/
http://madanca.com/blog/tax-implications-of-canadian-investment-in-a-florida-rental-property/#respondTue, 01 Aug 2017 21:42:07 +0000http://madanca.com/?post_type=post&p=44463Thinking of making an investment in the sunshine state? Learn more about investing in a Florida rental property as a Canadian. 1. THE NUMBERS Let’s begin with reviewing an income statement for the expected revenue and expenses of an example rental property in Florida. * Estimate based on a mortgage of $165,000, interest rate of … Continue reading Tax Implications of Canadian Investment in a Florida Rental Property

Thinking of making an investment in the sunshine state? Learn more about investing in a Florida rental property as a Canadian.

1. THE NUMBERS

Let’s begin with reviewing an income statement for the expected revenue and expenses of an example rental property in Florida.

* Estimate based on a mortgage of $165,000, interest rate of 4%, 30-year amortization period

** Management fees are not charged in the first 2 years of ownership. In year 3 and onwards, a management fee of 15% of gross monthly rents shall be charged

*** Utilities paid by tenant

2. NO DOUBLE TAX

As a Canadian resident, you are responsible for paying Canadian income taxes on your worldwide income. To prevent double taxation, you can claim a foreign tax credit on your Canadian return for the American taxes paid. You will not be double taxed!

3. TAXABLE INCOME – US AND CANADA

Let’s look at the taxable income calculation for the Florida rental property for US tax purposes and Canadian tax purposes.

*Based on an estimated purchase price of $220,000 with $40,000 allocated to Land

After accounting for expenses and depreciation, the taxable income for US purposes is $1,248 and for Canadian purposes is $4,188. You’ll notice that the taxable income for Canadian purposes is higher, because Canada provides for a lower depreciation deduction than the US.

You can deduct mortgage interest expense in respect of your rental property, in addition to interest paid on a line of credit used to fund the initial down-payment. The principal portion of the mortgage payment is non-deductible for tax purposes.

4. TAXES PAYABLE

Every person receives a personal exemption of $4,050 in the US. This means that taxable income below $4,050 is tax-free. Because your expected taxable income of $1,248 is below the exemption amount, you won’t owe any taxes in the US. This of course assumes that your only source of income in the US is from this US rental property. Note that the State of Florida does not impose a state income tax.

The taxes payable in Canada in respect of the profits from your US rental property depends on your tax bracket in Canada. For example, assume that your marginal tax rate is 35% in Canada. In this case, you would pay taxes of $1,466 on $4,188 of taxable profit.

5. DEPRECIATION

Let’s now look a closer look at how depreciation is calculated. Depreciation is a deductible expense and reduces taxes payable. For US tax purposes, the cost of a property (excluding land) can be depreciated over a period of 27.5 years. However, for Canadian tax purposes depreciation of 4% of the cost of the property (excluding land), on a declining balance scale, can be claimed each year except for the 1st year, which allows for a rate of only 2%.

6. WITHHOLDING TAXES

Non-residents that collect rents from a rental property in the US are subject to a 30% withholding tax. For example, if you collect $1,500 in monthly rent, then this withholding tax amounts to $450 per month. This tax will be credited to you in full upon filing a US non-resident tax return.

In years 2 and onward, you will no longer have to pay a withholding tax. This is because your Accountant would have obtained a US Tax ID Number (ITIN) for you by this time. The ITIN along with form W8-ECI should be provided to your property manager so that he or she will stop withholding tax from rents paid to you.

It would be nice if you could apply for an ITIN sooner, ideally when you first purchase your rental property. However, the IRS will not issue an ITIN unless the application for an ITIN is submitted with your first US tax filing. The earliest that your accountant can file your first US tax return is in January or February following the year of purchase.

7. FILING US TAX RETURN

Each year you will have to file a US non-resident tax return to report the rents collected and expenses incurred. This return is due by June 15, if you are a non-resident alien living outside of the US.

8. CAPITAL GAINS

If you sell your property in the future for a profit, there will be a capital gain and recapture of depreciation previously claimed. Both the capital gain and recapture of depreciation must be included in your income for US and Canadian tax purposes in the year of sale.
For example, assume that you sell the property for $320,000 in 5 years from now. Based on an initial purchase price of $220,000, this means you made a profit of $100,000. The taxes payable on this profit are calculated as follows:

*Assumed total income for the year is from property sale only

The bottom line is that you will pay $17,492 of tax in the US and $3,811 of tax in Canada. The Canadian taxes are reduced by a foreign tax credit for the American taxes paid.

]]>http://madanca.com/blog/tax-implications-of-canadian-investment-in-a-florida-rental-property/feed/0How to Reduce Withholding Taxes on the Sale of U.S. Propertyhttp://madanca.com/blog/reduce-withholding-taxes-sale-us-property/
http://madanca.com/blog/reduce-withholding-taxes-sale-us-property/#respondMon, 05 Jun 2017 21:35:58 +0000http://madanca.com/?post_type=post&p=44290Are you selling or thinking about selling U.S. real estate? Read further to find out how Canadian sellers can reduce withholding taxes on the sale of U.S. property. When a non-resident of the US sells US real estate, the title company must hold-back 15% of the sales proceeds. This is in accordance with the Foreign … Continue reading How to Reduce Withholding Taxes on the Sale of U.S. Property

Are you selling or thinking about selling U.S. real estate? Read further to find out how Canadian sellers can reduce withholding taxes on the sale of U.S. property.

When a non-resident of the US sells US real estate, the title company must hold-back 15% of the sales proceeds. This is in accordance with the Foreign Investment in Real Property Tax Act (FIRPTA). However, if the buyer intends to use the property as a personal residence and the selling price is less than $300,000, then no taxes will be withheld from the sale.

Practical Example

Let’s take the example of Bustin Bieber, a Canadian tax resident who is selling his vacation property in Orlando Florida for $1,000,000. A withholding tax of 15% or $150,000 will apply to this sale. Bustin purchased the property in 2007 for $900,000.

Bustin would like to reduce the taxes to be withheld. He can do this by completing form 8288-B, Application for Withholding Certificate.

Check the box for transferor. The transferor is the seller and the applicant.

Parts 4 and 5 – Title Company’s Information

Enter the name, Tax Identification Number, and address of the title company. The title company is responsible for withholding taxes from the sales proceeds. In addition, the title company should receive the withholding certificate from the IRS.

Part 6 – Details of the Sale

Enter the closing date and selling price

Check the boxes for “Real Property” and “Personal”

Report the Adjusted Cost Basis. This is the purchase price, plus the cost of improvements made to the property and closing costs paid when you originally bought the property.

Report the address of the property being sold.

Check “No” for “filing returns” and “payment of taxes”. Since this is Bustin’s personal property, he was not required to file US tax returns nor was he required to pay US income taxes.

Part 7 – Reason for Issuing Withholding Certificate
You have to provide a valid reason why the IRS should issue a Withholding Certificate. In this case, check box 7(B), because Bustin’s tax liability from the sale is less than the taxes to be withheld. Bustin’s tax liability is $8,139. You can use a personal tax calculator to estimate the US income taxes payable arising on the sale of your property.

However, the taxes to be withheld are $150,000 or 15% of $1,000,000, which is the selling price. Since the estimated income tax liability of $8,139, is less than the taxes to be withheld, Bustin has a valid reason to request the IRS to issue a Withholding Certificate to him. Once the withholding certificate is issued by the IRS and provided to the Title Company, the Title Company will only withhold the estimated income tax of $8,139 and remit this amount to the IRS. The rest of the funds will be released to Bustin, i.e. $991,861 ($1,000,000 less $8,139).

Part 8 – Unpaid Taxes
Bustin does not have any unpaid taxes, so he would check “No.”

Part 9 – Additional Information
Since this application is for an individual taxpayer instead of Corporation, Bustin would check “No”.

Part 10 – Final Step
Sign and date the form at the bottom of the page in original ink. Mail the signed form 8288-B to the IRS and attach these supporting documents to it:

]]>http://madanca.com/blog/reduce-withholding-taxes-sale-us-property/feed/0How to Report the Sale of a U.S. Rental Propertyhttp://madanca.com/blog/report-sale-us-rental-property/
http://madanca.com/blog/report-sale-us-rental-property/#respondMon, 01 May 2017 18:57:48 +0000http://madanca.com/?post_type=post&p=44153Are you planning to sell a rental property in the U.S.? If yes, learn how to report the sale of your rental property on a U.S. Tax Return now. Let’s Look at an Example Justin Trupou is a Canadian resident who owns a U.S. rental property. Here are a few important details: He purchased the … Continue reading How to Report the Sale of a U.S. Rental Property

Are you planning to sell a rental property in the U.S.? If yes, learn how to report the sale of your rental property on a U.S. Tax Return now.

Let’s Look at an Example

Justin Trupou is a Canadian resident who owns a U.S. rental property. Here are a few important details:

He purchased the property in 2014 for $100,000 USD.

He sold the property on December 31, 2016 for $130,000 USD.

He paid a commission of $2,000 to his real estate agent for selling the property.

As of the end of 2016, he has claimed total depreciation of $10,606 since he purchased the property.

Step 1: Justin has to complete from 4797, Sale of Business Property. On page 1 of this form, he should write his name at the top and his US tax identification number. On page 2, Justin should write a description of the property (e.g. building), the date the property was purchased and the date the property was sold.

Step 2: Next, Justin has to calculate the Adjusted Basis or ‘tax cost’ of his rental property.

The difference between the selling price of $130,000 and the Adjusted Basis of $91,394 gives rise to a capital gain of $38,606. Remember to report this amount on lines 6, 7, 24, 30 and 32 of Form 4797 as well.

Step 3: Now, Justin has to complete Schedule D. But first, you need to understand the difference between long term and short term capital gains.

Capital gains can either be treated as long term or short term. Long term gains arise from a property that is owned for at least 1 year prior to sale. Short term gains arise from a property that is sold within 1 year of purchasing it. The reason this distinction is important is because long term capital gains have a lower tax rate.

Since Justin owned the property for more than 1 year, he reported the capital of $38,606 in Part II of Schedule D, Long Term Capital Gains (lines 11 and 15). Remember to also report this capital gain and the depreciation claimed to date on page 2 of Schedule D (line 16).

Step 4: The final step is to report the capital gain of $38,606 on line 14 of Justin’s US Tax Return. This capital gain will be added to Justin’s total income.